Final answer:
A 1031 exchange allows deferral of capital gains taxes on exchanged investment properties, where like-kind property must be used in trade, business, or investment and be of the same nature, regardless of grade or quality.
Step-by-step explanation:
A 1031 exchange, named after Section 1031 of the U.S. Internal Revenue Code, allows investors to defer paying capital gains taxes on an investment property when it is exchanged for another like-kind property. For a property to be considered like-kind, it must be held for use in a trade, business, or investment. A wide range of properties can qualify for a 1031 exchange, which includes certain real estate properties but not personal use properties, stocks, bonds, or notes.
Examples of like-kind property could be swapping an office building for a retail space, or a rental house for a multifamily complex. The key is that both the original and replacement properties must be of the same nature or character, even if they differ in grade or quality. It's essential to note that both properties must be within the United States to qualify for a 1031 exchange.